Bernanke's New Lip-Service: Don't Believe It, Bond Markets Aren't!

Includes: IEF, SPXU, SPY
by: Jeffrey Fischer

Stock markets are at new closing highs. Why? Ben Bernanke retracted from his hawkish tone from a few weeks ago to boldly state that, "A highly accommodative policy is needed for the foreseeable future". He specifically cited a mediocre job market in supporting his comments. The S&P (SPY) has rallied 100 points in the past 12 trading sessions after hitting a 2-month low of 1573 on June 24th.

Here's what's really going on: Bernanke has been strategically testing the markets to gauge investors' reactions to the idea that the Fed's QE program would soon be winding-down. This isn't the first time a central bank has given investors lip-service, and it won't be the last. I credit Bernanke to this regard. He left himself some wiggle-room to pull away from his previous comments in the case that economic data deteriorated or his hawkish-stance led to a damaging reaction in capital markets.

Economic Indicators have not deteriorated - in fact, they have improved (almost making Bernanke look like a clairvoyant wizard). The July private and non-farm payrolls were extremely strong. So clearly the reason for Bernanke's change of heart has been the market reaction to the idea of an impending end to the Fed's $85-billion per month QE program. I don't think the Fed is concerned much with a decline in equity markets (in fact, I believe it wouldn't mind seeing a bit of a cool-down). The cause for concern has been the sharp rise in Treasury yields which more directly affect the economy and the housing recovery.

For this reason, the Fed should be very worried now. While equity indices have clawed-back all of their losses from late-May and June, the 10-year Treasury Yield stands at 2.57% and nearly 100 basis points higher than at the beginning of May.

^SPX Chart
(Click to enlarge)

^SPX data by YCharts

The bond market and the currency market don't fully buy Bernanke's 180-degree spinorama. Especially for this reason, neither should you - the equity investor. If the Fed observes a continued rise in equity markets but no relief in Treasury yields, I believe they will return to serious discussions about winding-down QE since bond markets continue to reflect this likelihood anyhow.

If you were caught off-guard by the violent sell-off in equity markets at the end of June, and have fortunately since recovered those losses, here's your 2nd chance to reduce your exposure to stocks - or hedge using an ETF like (NYSEARCA:SPXU). After-all, why should we be more confident about Bernanke's lip-service this time around?

Disclosure: I am long SPXU. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article. I have hedged some of my long exposure through the 2X-inverse S&P ETF SPXU

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